Naked Capitalism: Frying the Small Fish

Quelle Surprise! Prosecutors Get Tough on Mortgage Fraud…at an Itty Bitty Bank

One of the things that has been galling is watching various officials tasked to protect the public from financial services miscreants is to have them prattle meaningless statistics about how the number of actions of various sorts that they’ve taken is up relative to the previous incumbents. That’s tantamount to a MASH unit tallying up what a great job they did in improving the vaccination rate while not even looking at a huge rise in the mortality rate and questioning whether their response was adequate.

A particularly offensive example of prosecutorial belt-notching is the prosecution of Abacus Bank. Ever heard of Abacus Bank? No, and there’s really no good reason you should have. It has $272 million in total assets. That is no typo.

Now that does not mean that fraud, even at a little bank, should not be prosecuted. But the District Attorney for New York, Cyrus Vance, decided to perp walk some former employees of this bank and hold a news conference about the prosecution (the two children of the founder, one of whom appears to have unearthed the fraud, weren’t charged).

Drake Bennett at Bloomberg took note of the peculiar case today:

Abacus, like many banks, had sold its loans to Fannie Mae (FNMA), taking the proceeds and lending them back out to earn more interest. The huge government-backed company in turn bundled those mortgages into securities it sold to investors. Abacus lied about applicants, Vance charged, because otherwise its loans wouldn’t have met Fannie Mae’s income requirements, and the bank depended on Fannie’s money for a significant chunk of its profit…

In Vance’s description, Abacus’s fraud epitomizes the reckless behavior that swelled—and then burst—the U.S. housing bubble. But Vance was understating the uniqueness of the case. The fraud analytics firm Interthinx estimates that there were between $1 trillion and $4.8 trillion in fraudulent mortgages issued nationwide between 2005 and 2007, yet criminal cases against banks for originating such mortgages have been very rare. There have been a few prosecutions of individuals, a few large civil suits brought against banks such as Bank of America (BAC) and JPMorgan Chase (JPM), and deferred prosecution deals where lenders have paid a financial penalty in lieu of criminal charges. But in the wake of the financial crisis only one bank in the whole country has, as an institution, been criminally indicted for mortgage fraud: Abacus.

And even though the bank and its employees violated Fannie and Freddie standards, the loans performed well, in fact, very well:

Abacus borrowers, in fact, are champion repayers: The bank’s default rate is a fraction of the industry average—in late 2009, when 5.4 percent of Fannie loans were defaulting, Abacus’s default rate was less than a tenth of that. “If every bank in this country committed mortgage fraud the way Abacus allegedly did, we wouldn’t have had a financial crisis, because these loans are performing,” says Kevin Puvalowski, the lawyer representing the bank in the case. As a result, Abacus finds itself in the unlikely position of being charged with a fraud that may have made millions of dollars for its victim, Fannie Mae. By the bank’s own calculations, Fannie and the investors who bought its securities have thus far earned more than $174 million in interest from Abacus mortgages.

As Vance suggested, prosecuting a Chinese bank that no one ever heard of sends a loud and clear message to Wall Street…that they have nothing to worry about.


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